While there’s a lot of excitement now about the cotton market, it’s easy to forget markets are cyclical, warns Glen Arnold of Arnold Consulting.

“We need to realize that cotton prices are in a cycle. They don’t just go up and stay there,” says Arnold, speaking at the recent Wiregrass Cotton Expo held in Dothan, Ala.

Looking back, Arnold says the general public has a different perception from farmers about what has occurred this past year. “We’ve seen a phenomenal year — one for the record books — in cotton this year. Who would have dreamed cotton would have gone from 67 cents per pound to more than $1.70? No one saw this coming, and if they did, it was sheer luck,” says Arnold.

What most people don’t realize, he adds, is that the Southeast was gripped by drought this past year, and there wasn’t a lot of extra cotton to sell. That, he says, takes some of the wind out of the good market news.

Quoting renown investor Warren Buffet, Arnold says that in the business world, “the rear view mirror is always clearer than the windshield.”

“We can always look back and see what we could have done differently with last year’s cotton. We went for four years when prices never got above 70 cents. We were jumping up and down when it hit 75 cents to 80 cents, and many of us locked in when it hit that range. No one knew what would happen,” he says.

Some economists have said recently that we’ve entered a new era of demand with India’s and China’s emerging middle classes, and that we’re going to enjoy these prices for years to come, says Arnold. “I cringe when I hear that because almost those exact words were said in 2008. Cotton had reached near 90 cents, and everyone was talking about China, and the fact high prices were here to stay,” he says.

Dramatic increase
In less than nine months, says Arnold, prices went to the low-40-cent range. In early 2001, prices were up in the 70-cent range. But 10 months later, they were at 28 cents per pound. In 2003, prices were 85 cents per pound and once again everyone was talking about China and demand. Ten months later, prices were 42 cents per pound, he says.

China is the common denominator in all of these scenarios, he says. “China may pay through the nose for cotton this time, but ultimately, the house always wins. We have to rely on exports in the United States, so China and all of these other countries are the ones we rely on the most, says Arnold.

High prices bring on more acres, and more acres generally bring on more supply, he says. “More supply usually puts a damper on prices. At the same time, low prices decrease acres, decreased acres lower supply, and low supply ushers in high prices. It’s a cycle. It’s my opinion that this time next year, we’ll be wishing someone had hit us in the head with a two-by-four and made us lock in $1.10 cotton. It’s not the same situation this year as last year.”

Brazil just came out with its official numbers, says Arnold, and cotton acreage increased by 60 percent. Also, Argentina increased by 45 percent. “Australia had cut back on its cotton for several years, and it has increased acreage by 200 percent. That cotton is now in the ground and will be harvested at about the same time we’re planting.”

It’s important to remember that the situation is not the same as last year, he says.

“Many of us got burned on forward contracting last year, but I think we should take a long look at pricing this year. Our tendency, for most of us, is not to forward contract this year if we got burned doing it last year. We could easily be looking at an LDP situation in 18 months or less. I’m not forecasting that, but we need to be aware of the supply/demand situation.”

Another factor to consider is that the United States has been in a recession, notes Arnold. “People have to eat, but textiles will be the first to get hit if the economy slows again. The economy is in a very fragile situation right now. Energy prices are going up as well. Prices will impact demand, and people will cut back. And when they do, there’s a ripple effect, and farmers will be affected.

“If the United States increases cotton by 25 percent, and all other countries plant cotton wall to wall, and because of inflation the economy slows down, we could easily be in a glut situation in cotton. We could go from a situation of under-supply to an over-supply in 18 months. That could happen. I’m not saying it will, but we need to be prepared for these things.”

Consider forward pricing
Arnold recommends cotton producers consider forward pricing this year. “I don’t think there’s ever been a time in history when we went into a crop with new crop prices above $1. Put options are something we should consider this year, but because of how high prices are, they won’t give us the protection they used to give.”

Nobody knows what prices will do, he says, and because of that, we must respect the market and look at the best indicators we have. There are two ways to analyze markets, explains Arnold, a technical analysis and a fundamental analysis.

“I use technical analysis which is a study of charts and study of momentum. Trends are made of peaks and troughs, and if you look at charts, you can see momentum in the markets. There are bear markets and bull markets. You can be in an uptrend, a downtrend or a sideways trend at any given time, and trends come to an end, like all good things.”

Each time a market trend pulls back, says Arnold, it’s testing the previous peak.

“Most people want to know what’s running the market, whether it is China or something else. That’s fundamental analysis. With technical analysis, it really doesn’t matter what’s going on in the world because a chart already factors that in. A chart may illustrate weekly trades or monthly trades.

“One thing is for certain. At some point, the uptrend will run out of gas. We’ll see that with cotton, we just don’t know when.”

Pullbacks are a natural part of trends, he says, but the problem is that you have to watch it carefully because you can’t tell if a market has peaked until you have a correction and the market turns back up to re-test that high.

“We need to watch the cotton market to see if it does what the feeder cattle market has done. If it does, then we need to be aggressive about pricing.”

Arnold urges growers not to buy into everything the media is saying about the cotton market. “We’ve heard before that cotton is at a new level of demand, and each time within 10 months, cotton busted. I encourage you to track markets. It’s an exciting time, but don’t get caught holding the bag. A chart doesn’t lie, and it factors in all worldwide fundamentals.”